There is more than one way to win ‘bidding war’

Escalators here would serve an important purpose. (Flickr photo by zoetnet)

There is more than one way to win what homebuyers insist on calling a bidding war. (I call it “competition.”) But at least two of them are shunned here in New York.

Of course, conventional tactics include raising the price and stripping the contract of any contingencies such as financing and home inspection or otherwise improving terms such as settlement date.

One of the out-of-the-box idea that no one here endorses, however, demonstrates a buyer’s high motivation to close the transaction. The concept is to offer a deposit greater than the conventional 10 percent, thereby suggesting that the buyer will do nothing to jeopardize the deal.

When I mentioned that notion in a telephone call to a lawyer whom I greatly respect, his horror was palpable. I could imagine him yanking the phone from his ear to stare at it in disbelief.

Another approach is one I frequently employed in Washington, D.C., Maryland and Virginia when those markets were red hot. It is the escalation clause.

In those markets, an offer is not just an e-mail with a couple of provisions to be amplified by lawyers and finally included in a contract that often isn’t signed for a week or two. In the three jurisdictions where I worked as a broker for four years, an offer is a boiler-plate contract completed by the brokers and signed in a matter of hours by their clients.

The escalation clause is attached to the contract as an offer to raise an existing bid by set increments up to a maximum. A close analog would be a silent auction.

As an example, assume the listing agent tells a buyer’s representative that there are three other promised offers for a $1 million property. An escalation clause might propose to increase a buyer’s offer by $10,000 over the highest one up to $1.1 million.

If no other buyer goes that high, the $1.1 million buyer would win (though possibly for much less money), all other things being more or less equal such as financial strength, amount of deposit and terms.

Neither seller nor buyer is bound to that purchase until the contract is signed for whatever sum to which the price escalates.

As for financing, the escalation clause in D.C. allows basically two options. One involves keeping the amount financed unchanged or slightly increased; in that event, the buyer pays more in cash. The second option is to have the loan grow proportionately to the escalated price, the lender permitting.

You might wonder what prevents sellers and agents from simply manufacturing competing bids and numbers. For one thing, brokers face severe penalties over dishonesty and, in any case, will show the buyer’s representative that losing contract.

Consider how an escalation clause benefits buyers more than sellers: It essentially eliminates guesswork.

Here, when told they have to make a best and final offer, buyers may well decide on an outlandishly high price to beat the competition with what could be its far lower number.

“Don’t get caught up in the frenzy of the escalation process,” says Kass.

Still, I strongly believe that the escalation clause can be an important way for buyers to distinguish themselves from the competition while potentially saving themselves money. It is a pity nobody will use it here.